The world economy is going through difficult times. The global crisis has bequeathed several countries a legacy of high unemployment, unsustainable public finances and lower potential output. It is therefore time to look ahead and ponder the challenges we will be facing in the years to come. This is what this volume is about. It puts together the proceedings of a conference co-hosted by the OECD and the World Bank that took place in Paris on 24-25 March 2011. The conference provided an opportunity for policymakers, academics, practitioners and members of civil society to discuss complex policy issues and look for creative, forward-looking ways of addressing them.

This volume discusses several policy challenges facing countries to achieve and sustain inclusive growth. The volume is based on the proceedings of a conference co-organised by the OECD Economics Department and the World Bank on 24-25 March 2011, which brought together academics and practitioners from advanced and emerging-market economies, as well as developing countries. While discussions on strong growth typically focus on the pace of economic expansion and the associated improvements in the population’s living standards, those on inclusiveness also delve into the patterns of growth and on how its benefits are shared among the different social groups.

Growth is inclusive if it supports high levels of employment and rising wages. For developing countries, this means acquiring competitiveness in new sectors and technologies. Policies to support inclusive growth have to address significant market failures and have a mixed record across countries. Part of the difficulty lies in the “political settlement” or social order in which policies and institutions are embedded. The political settlement is structurally different in developing countries compared to advanced ones, and across developing countries. Ambitious good governance strategies that aim to achieve strong enforcement of property rights across the board are unlikely to succeed in developing countries. The thrust of reform strategies has to shift towards building pragmatic “developmental” governance capabilities that can enable the implementation of policies that target specific market failures in specific political settlements. The general argument is illustrated with reference to the recent experiences of Thailand.

Regulatory agencies that foster competition among private financial institutions, promote transparency throughout the financial system and work relentlessly to reform policies that perversely distort the incentives of private institutions encourage inclusive growth. In contrast, regulations that stymie competition in the name of stability and policies that funnel credit to politically-favoured ends in the name of the poor typically curtail inclusive growth. Political economy factors are paramount in shaping the design and implementation of financial regulatory policies since powerful segments of society may seek exclusive - not inclusive - growth.

Welfare states in the advanced countries are responding to the rise of new, immeasurable risks by relying less on social insurance and more on the provision of customised social services, such as education, which enable citizens to acquire the capacities needed to respond to the risks they face. These services are provided by a novel form of organisation that addresses the classic problems of public administration - how to limit discretion while increasing the responsiveness of the organisation to changing circumstance - by authorising front-line workers to search for new solutions, but with the requirement that they explain and justify their decisions to peers. The successful Finnish school system exemplifies this new type of organisation. Research on the limited effectiveness of conditional cash transfers, which is the favoured strategy for improving social services in developing countries, suggests the need for customisation in this setting too, so changes in advanced country service provision may hold lessons for development.

A Green Growth Strategy pursues economic growth combined with significant improvements in environmental quality and sustainable resource use. Such a policy requires a shift in production and consumption, which is potentially costly for major production sectors, certain types of households or entire economies. Technological change can reduce the cost but the extent of cost reductions depends on the nature of knowledge spillovers and technology policies. With appropriate burden-sharing rules and complementary policies, low-income groups and countries can gain, thus making green growth inclusive. We discuss several aspects of the mechanisms behind inclusive green growth and the policies that could support it.

Tackling deficits is like treating a symptom, not the disease. Today’s disease is largely related to something unique in all of modern history: officials who have increasingly competed to control most, all, or more than all of the resources that are likely to be available to government for the future. This has created four related economic problems: unsustainable long-term budgets; a weakened ability to conduct future counter-cyclical policy; fiscal sclerosis due to budgets being increasingly focused on consumption; and an aged set of policies to promote inclusive growth. Meanwhile three political dilemmas arise: a decline in fiscal democracy and in the related ability of each generation of voters to decide what it wants to do with the revenues that accompany economic growth; a classic prisoners’ dilemma where both the political left and right lose by acquiescing, respectively, to spending cuts or tax increases; and difficulty in “fixing” government, since to do anything new requires reneging on some past promise.

While the area of innovation studies is extensive and rapidly expanding, analysis of innovation policy is much less developed. A view that policy applications can be inferred linearly as an afterthought of positive analysis parallels the logic of a linear innovation model, whereby innovation is almost a straightforward outcome of either university research or company R&D. Taking as an example Israel’s cluster of technology start-ups and venture capital industry, the paper develops a theory of innovation policy as an endogenous variable. A three-phase model of innovation policy evolution is introduced, as well as directions for the adaptation of the model for middle-income economies.

We investigate the strength of innovation-driven employment growth, the role of competition in stimulating and facilitating it, and whether it is inclusive. In a sample of over 26 000 manufacturing establishments across 71 countries (both OECD and developing), we find that firms that innovate in products or processes, or that have attained higher total factor productivity, exhibit higher employment growth than non-innovative firms. The strength of firms' innovation-driven employment growth is significantly positively associated with the share of the firms' workforce that is unskilled, debunking the conventional wisdom that innovation-driven growth is not inclusive in that it is focused on jobs characterized by higher levels of qualification. We also find that young firms have higher propensities for product or process innovation in countries with better Doing Business ranks (both overall and ranks for constituent components focused on credit availability and property registration). Firms generally innovate more and show greater employment growth if they are exposed to more information (through Internet use and membership in business organisations) and are exporters. The empirical results support the policy propositions that innovation is a powerful driver of employment growth, that innovation-driven growth is inclusive in its creation of unskilled jobs, and that the underlying innovations are fostered by a pro-competitive business environment providing ready access to information, financing, export opportunities, and other essential business services that facilitate the entry and expansion of young firms.

Let me begin with an awkward confession. I am a macroeconomist. Macroeconomics is difficult but, as you are aware from reading the news, we have done a splendid job regardless. In contrast, I always thought microeconomics and recipes for structural reform were inherently easier. However, after two years of chairing the Economic and Development Review Committee, which does country reviews at the OECD, I have begun to realise that this is not so.